Base rate, inflation and stock of money: exclude the unnecessary
Experts are still debating the pros and cons of the base rate change in Kazakhstan even a day before the National Bank announces its monthly decision on this monetary policy tool.
Let’s take a look at key factors that influence inflation in Kazakhstan.
The first factor, and the most important in my opinion, is the exchange rate. Last year, the tenge exchange rate was strong and stable towards almost all currencies of its trading partners. Even though inflation in Russia has been driven by the ruble’s devaluation against the U.S. dollar, the tenge rate is strengthening. As a result, Kazakhstan can pay less for goods imported from Russia and other countries, while the growing amount of imported goods doesn’t affect prices. For instance, current food inflation is 8.5% compared to 9.8% in December 2023 against the backdrop of growing imports (+20% over eleven months of 2023).
Although the economic performance of Kazakhstan’s trading partners wasn’t impressive over the past three to five years, it is still within the average range. Oil prices are stable, while the dollar index is quite modest against the backdrop of the current base rate by the Federal Reserve.
External factors are also positive for Kazakhstan; I think it is safe to say that this trend will continue this year as the tenge exchange rate is strong. It is going to continue to remain strong because the National Fund’s money is used to cover the budget deficit with the help of converting dollars to tenge. This configuration doesn’t promote inflation. That’s for sure.
On the other hand, excessive money supply is successfully being converted into deposits as data showed in December. I don’t think that we have to worry about demand on deposits even if the base rate drops below 16% given the current difference between foreign currency rates. This demand for deposits in the tenge isn’t flexible, which is why people continue to switch their savings from the dollar to the tenge. Moreover, our sociological surveys show that devaluation expectations are at their lowest point currently in Kazakhstan.
Some experts are worrying that an increase in money supply could spark inflation. However, in Kazakhstan, the National Bank can’t prevent the money supply from growing with the help of the base rate. This indicator rather depends on reserve requirements, fiscal position (which can increase or decrease) and foreign currency supply (sufficient or insufficient). The more dollars you sell, the less tenge you have. This is also quite an effective mechanism for managing money supply.
The stock of money is never converted into an increase in lending in Kazakhstan. Therefore, the corporate lending rate is at its historical low, which is a key problem. A transmissive mechanism doesn’t properly work here. Money supply either transforms into deposits or bigger demand for foreign currency, which is now supplied by transfers from the National Fund.
The current base rate minimizes risks associated with the overall uncertainty both internal and external, but this management price is probably too high because this risk is a kind of myth, I believe.
Economics is a behavioral science. Rules and principles on monetary policy written in books must be adjusted to reality. Every stimulus, including changes in base rates, can affect an economy in a certain way. It might be effective for some economies and not effective for others depending on factors such as geography, trading partners, level of trust in the market and historical traumas people may have suffered from customer lending in the past. Finally, even the way governments finance their projects can be an important factor. All these factors determine how regulators use their tools within the existing theory of monetary policy.
